LIFETIME BRANDS, INC quarterly report, Q2 FY2018

Lifetime Brands, Inc. — Form 10-Q Summary

Business Context and Reporting Period

Lifetime Brands designs, sources and sells branded kitchenware, tableware, home products and precision measurement products through U.S. Wholesale, International and Retail Direct segments. This unaudited Form 10-Q covers the three and six months ended June 30, 2018. Results include Filament Brands from its March 2, 2018 acquisition date. The business is seasonal, with approximately 60% of 2017 sales generated in the third and fourth quarters.

Financial Highlights

Metric	Three months ended June 30	Six months ended June 30
Net sales	$148.7 million, up 26.7%	$266.8 million, up 15.7%
Gross profit	$52.1 million	$97.2 million
Gross margin	35.0%, versus 36.5%	36.4%, versus 37.6%
Loss from operations	$(3.3) million	$(16.6) million
Net loss	$(6.1) million, or $(0.30) per diluted share	$(17.7) million, or $(0.96) per diluted share
Operating cash flow	Not separately reported	$(5.8) million

• Operating expenses increased to $55.4 million in the quarter and $113.8 million year to date, including distribution, SG&A and restructuring costs.
• Interest expense increased to $4.7 million in the quarter and $6.8 million year to date, primarily due to acquisition financing.
• At June 30, 2018, cash was $6.0 million, inventory was $197.9 million and working capital was $217.6 million.
• Total assets increased to $742.0 million from $401.5 million at December 31, 2017, primarily reflecting the Filament acquisition.
• Capital expenditures were $3.2 million year to date. Cash used in investing activities was $221.1 million, including $217.9 million for the Filament acquisition.

Material Changes Versus the Prior Comparable Period

• Filament contributed $29.3 million of sales and $0.4 million of operating loss in the second quarter, and $38.6 million of sales and $1.5 million of operating loss for the six-month period.
• The Filament acquisition had aggregate consideration of $295.4 million, consisting of $218.5 million in cash and $76.9 million in newly issued common stock. Goodwill and other intangible assets increased to $366.2 million from $88.5 million at year-end.
• U.S. Wholesale sales increased 31.1% in the quarter and 18.1% year to date, while International sales declined 1.6% in the quarter and increased 0.7% year to date on a reported basis. International sales declined approximately 7.2% and 7.7%, respectively, in constant currency.
• Gross margin declined because of lower-margin excess inventory sales and strategic customer promotions. Retail Direct margin also declined due to increased promotions.
• Six-month distribution expenses included approximately $2.6 million related to relocation of the company’s West Coast distribution facility.
• The six-month net loss widened from $3.4 million to $17.7 million, reflecting higher acquisition-related amortization and expenses, increased interest costs and restructuring charges.

Debt, Liquidity and Other Key Matters

• The company entered into a $150.0 million senior secured asset-based revolving facility maturing in 2023 and a $275.0 million senior secured term loan maturing in 2025.
• At June 30, 2018, borrowings were $59.6 million under the revolving facility and $274.3 million under the term loan. ABL availability was approximately $87.3 million, with $3.1 million of open letters of credit; reported liquidity, including cash, was $93.3 million.
• Term loan interest rates were approximately 5.5% to 5.6%; approximately $208.9 million of debt carried variable rates, partly hedged by $125.0 million of interest-rate swaps.
• The company was in compliance with debt covenants at June 30, 2018. The ABL agreement includes a minimum fixed-charge coverage ratio of 1.10 to 1.00 if availability falls below specified thresholds.
• The company sold $38.7 million of receivables to HSBC during the first six months to support seasonal liquidity; related fees were $0.2 million.
• Management reported four-quarter consolidated adjusted EBITDA of $69.2 million, including $9.6 million of projected synergies and other permitted adjustments. This is a non-GAAP covenant measure and is not equivalent to GAAP operating income or cash flow.

Outlook, Commentary, Risks and Unusual Items

The filing does not provide formal revenue, earnings or margin guidance. Management expects seasonal working-capital requirements and inventory levels to rise before the holiday shipping season and expects to continue borrowing and repaying under the ABL facility as needs fluctuate.

• Integration of Filament is expected to generate synergies, but the company incurred $0.8 million of restructuring charges year to date and reported $9.6 million of projected synergies included in its covenant-adjusted EBITDA calculation.
• Key risks include acquisition integration, substantial leverage and interest-rate exposure, seasonality, liquidity, foreign exchange, customer and retail conditions, supply-chain disruption, competition, goodwill and intangible-asset impairment, and international operations.
• Most products are sourced outside the United States, primarily from China. Newly imposed or future tariffs could increase product costs, reduce demand or compress margins.
• The company is evaluating the tax effects of the Tax Cuts and Jobs Act, including GILTI and other provisions. Gross uncertain tax positions were $3.7 million at June 30, 2018, with approximately $3.0 million expected to be resolved within twelve months.
• An EPA investigation concerns groundwater contamination at a site leased by a Puerto Rico subsidiary. The company cannot estimate its potential liability; an adverse determination could be material.
• The company adopted ASC Topic 606 effective January 1, 2018, with no significant reported impact. Future lease accounting is expected to materially increase reported assets and liabilities upon adoption.

Important Facts for Investors to Verify

1. Whether Filament integration delivers the projected synergies and improves U.S. Wholesale profitability.
2. Whether gross-margin pressure from excess inventory, promotions, tariffs and product mix persists into the high-volume third and fourth quarters.
3. Debt maturities, covenant compliance, borrowing-base availability and sensitivity to variable interest rates.
4. Inventory levels, operating cash flow and reliance on receivables sales to fund seasonal working capital.
5. The final purchase-price allocation for Filament and any resulting goodwill or intangible-asset impairment risk.
6. The potential financial exposure from the Puerto Rico environmental matter and unresolved tax positions.